The impact of commodity taxation on product variety: a multi-category investigation

Abstract

Excise taxes are one of the primary tools used to discourage consumption of socially undesirable or unhealthy products. When considering implementation of such taxes, the current policy and academic discussions have focused on potential outcomes due to price changes. In this paper, we document that price changes are only the immediate response to tax policy changes, and in the long run, tax changes can impact product offerings. Using exogenous changes in tax rates from multiple empirical contexts: (1) the Korean soju market and (2) the US cigarette market, we show that a tax increase is followed by a significant drop in number and variety of product offerings. In addition, the change in product assortments post-tax hinges critically on the nature of tax imposed. We find that specific taxes, as opposed to ad valorem taxes, lead to the exit of products with larger pack size. We conduct a simulation experiment and estimate that studies which do not consider assortment changes can result in a 9% upward bias in consumer welfare for large tax increases. Our findings have important policy implications for research examining the impact of taxes on market outcomes.